A funny look at a serious mess / A fortunate sale / My obsession, you’re my obsession / Still a believer in the ag boom

18

Yesterday I talked about what a disgrace this whole Fannie Mae and Freddy Mac situation is. The following is a hilarious graphical depiction of my feelings on the subject (with a cartoon on the tomato industry getting screwed over thrown in for good measure):

I’d like to start things off today by telling a tale about the stock of an outstanding company in a terrible industry that I finally decided to pull the plug on several months ago. The company’s name is Autoliv (ALV). I like Autoliv. I think that it is an amazingly well run company. However, the industry that it caters to is an absolute disaster right now. I have never seen as poor a market for new vehicles in the United States in the twelve years that I have worked in the auto industry as the one that we are currently experiencing. It is a MESS. The European auto market seems extremely weak as well. At first I overlooked this weakness and held on to my ALV shares believing that the demand for vehicles from emerging markets would help to offset much of this weakness.

The company finally jumped the shark for me (to use a phrase that has jumped the shark itself) when I read about how the Indian automaker Tata Motors (TTM) was trying to get Autoliv to produce $0.99 (slight exaggeration) airbags for vehicles (how could they even do that? Tape a balloon and a straw to the steering wheel?). At that point, I said to myself, self the little money that ALV is going to make selling airbags for a buck a piece in places like India and China is not going to make up for its lost of revenue from the developed world. Out the door ALV went. I finally sold my stake in the company in early May at $55 per share, slightly below my original purchase price...but $16 above where it sits after today's 14% pounding.

The company reported second quarter results this morning. ALV's pretax earnings for the period increased to $135 million (from $89 million). This slightly missed the consensus estimate of $139 million. That's not too bad. The big negative is this part of its press release:

"As a result of the negative market trends, the Company is changing its full year guidance. Sales for 2008 are now expected to increase by 8% and an operating margin, excluding severance and other restructuring costs, is expected in the range of 7-7.5%." Lowered guidance is the kiss of death, especially in a weak market like the one that we are experiencing right now.

While we’re on the subject of the auto industry, I’m going to talk about plug-in electric vehicles again. I know, I know, it must seem like I am obsessed with this subject, but there’s a good reason why it looks like that…I am. No I am not a tree hugger who is obsessed with the possability of a zero emission vehicle (which won’t actually be zero emission unless the power that it uses came from a clean source). I’m an investor who is obsessed with identifying and taking advantage of major trends before others do.

It’s way to early to tell if plug-in electric vehicles like General Motors’ (GM) Chevrolet Volt will actually be sold in any meaningful volumes or if they will go the way of the EV1 of years ago, but the potential ramifications of electric vehicles are too large for investors to ignore. Not only would being first to market with such a technology potentially be GM’s salvation, but the introduction of a large number of plug-in vehicles is a potential boon for power companies and whatever resources our country uses to generate electricity, such as natural gas.

General Motors announced today that it is working with power companies to make sure that the Volt does not place too much stress on our country’s energy infrastructure (see article: GM, utilities team up on electric cars).

Credit Suisse added AGCO (AG) to its US Focus List yesterday (translation, they think that the company’s stock is poised to do well). Specifically, Credit Suisse believes that AG’s stock has the potential to rise by 40% over the next year. For those of you who are not familiar with the company, AG is a lot like John Deere (DE). It manufactures and sells farm equipment, like tractors, combines, etc… all over the world. Its stock is off around 25% thus far in 2008 on concern that raw material costs will eat into its profits, worries that the “ag boom” may be over, and general market weakness. Credit Suisse believes, and I strongly agree, that we are in the middle of a period of strong secular, not cyclical, demand for farm equipment. Yes, grain prices have dropped significantly lately as a result of general weakness among all commodities and much better than expected crop estimates in the wake of the Midwestern flooding.

It may appear as though we all dodged a bullet if U.S. crop yields end up being decent after the tragic flooding that we recently experienced easing some short-term pressure on the price of corn, but one could actually argue that we might have been better off in the long run if the floods caused corn to skyrocket to $10 and become so oppressive that it forced the government to pull the plug on its ethanol mandate or at least eliminate its tariff on imported ethanol. As its stands, the government’s rising requirement for blending ethanol with fuel remains in place and individual states like California may be looking to hop onto the bandwagon with their own requirements. The macro themes that brought us to this high level in grain prices remain very much in place, including rising demand for higher quality food in emerging markets, the government’s absurd ethanol policy, and a weak U.S. dollar. That is bad for people who want to eat, but great for companies that help increase crop yields like the manufacturers of farm equipment, fertilizer, and GMO seeds.

Credit Suisse independently confirmed the strong demand for farm equipment when it conducted a proprietary Farm Equipment Survey this month. They found that demand for combines and tractors remains extremely strong despite weakness in the overall economy. More than half of the farm equipment dealers that it surveyed indicated that both demand and pricing for their products are stronger than they had expected. Approximately 70% of the dealers it polled reported that their inventories of equipment are currently too low and more than 90% stated that demand is outpacing supply.

This robust demand for its products is enabling AGCO to raise its prices by an expected 2.0% to 2.5% in 2008. This is more than the 1.5% to 2.0% price increase that the company implemented in 2007 and it will help to offset some of its rising raw material costs. I have been playing the ag boom with investments in a number of companies, including fellow farm equipment manufacturer Deere. I have added AG to my CAPS portfolio and I may ultimately decide to purchase some in real life some time down the road.

- American Express net drops 38% amid warning of gloom ahead: Amex is getting crushed today, down 10% as I type. The company added $374 million to its credit loss reserves last quarter "as the effect of falling house prices and rising unemployment 'was evident even among our longer term, superprime cardmembers.' Hmmmmm, rising losses by credit card companies. Where have I read about this before. Ah yes, I predicted that this would happen in my blog back on May 8th: Swish, Swish, Swish, Swish...What's that sound?

I hate to rain on your parade. You have done a really excellent job in your analysis of market themes.

However, I have noticed a strong tendency towards overplanting in the next season when prices have been extremely good to farmers. This has been a strong pattern and has occurred regularly over a long time span (60 plus years).

In my little corner of Ohio there seems to be so much corn planted that corn will be coming out of the farmer's ears (so to speak) come harvest time.

My approach to this would be to short distant corn futures to take advantage of this strong tendency.

I haven’t done any analysis on other related industries, but my guess would be that they be negatively affected as well.

Thanks for sharing your thoughts, JB. I don't play the futures market directly, I just invest in the picks and shovels that the famers need. If farmers plant a lot of corn, it means that they are using a lot of the machinery, fertilizer, and GMO seeds that the companies I own produce.

Besides if farmers plant more corn, it means that they are planting less of something else and the price of soybeans will likely rally. Not to mention that the government's ever increasing ethanol mandate will soak up a lot of the excess.

Thanks for sharing your thoughts, JB. I don't play the futures market directly, I just invest in the picks and shovels that the famers need. If farmers plant a lot of corn, it means that they are using a lot of the machinery, fertilizer, and GMO seeds that the companies I own produce.

Besides if farmers plant more corn, it means that they are planting less of something else and the price of soybeans will likely rally. Not to mention that the government's ever increasing ethanol mandate will soak up a lot of the excess.

Here in Southern Illinois, the farmers barely got any corn in at all this year.

I was looking at it this morning. Some of the corn that did get planted isn't looking so good, either. A lot of them are still planting beans, hoping they'll still make it. The wheat has done well, though.

Nice one on DD. I was thinking about your mentioning that back when I wrote my blog on large caps poised for long positions, and DD is up just a hair. Paying a nice dividend too. If oil doesn't rise too sharply off the recent downturn, their expenses will go down too (a lot of their products are made from crude).

I might go long on DD if/when the next full market dip comes. Still hoping/wishing JNJ gets down below 60 again though!